Cut Your Capital Losses Early to Avoid Paying Additional Taxes

As of 2013, a number of provisions in the American Taxpayer Relief Act (ATRA) increase the tax rates on both short-term and long-term capital gains. For the top tax bracket, short-term capital gains—that is, money gained from the sale of securities you have held for less than a year—are now taxed at a rate of 39.6% (up from 35%) and long-term gains have seen a rate increase from 15% to 20%. There is also a recently added Medicare surtax of 3.8% on investment income, which would include capital gains.

With those increases in mind, it’s useful to think strategically about your stocks and bonds, especially if you have any that are now valued at a loss. Poorly performing stocks may not ever help you by providing profit, but they can help with taxes by offsetting your gains, provided you sell off your losers.

Consider that you may have some stocks in your portfolio that bring you a decent gain, but others that have lost value. If you are in the highest tax bracket, you would owe the Medicare surtax on the gains, but by selling off the losing stocks you reduce your liability on the gains significantly, possibly to nothing. If your losses outweigh your gains, you may even be able to use them to offset other income that is being taxed at higher rates.

The end of the year often sees a scramble to unload weak stocks to prepare for the tax bill to come. By thinking ahead and selling these stocks earlier, you may find you have greater opportunities to remove them from your portfolio than you would during the final quarter.

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